Authored by Michael Lebowitz via realinvestmentadvice.com,

Since the pandemic, the line between passive investing and aggressive speculation has blurred.The current bout of speculative fervor extends beyond financial markets. For instance, we see the same impulse in the explosion of sports betting and the surge in event-betting sites like Kalshi and Polymarket.

In the investment arena, margin debt is at record highs (as shown below), and zero-day-to-expiry (0DTE) stock options now account for approximately 50 percent of all options volume. Furthermore, the number of leveraged ETFs and their trading volumes have risen sharply. To wit, we share a quote from The Kobeissi Letter:

There are now a record 108 long and 31 short tech-related leveraged ETFs, 139 in total. This is 3 TIMES more than the 2nd largest sector, financials, with 47 total funds. By comparison, Consumer Discretionary has 44 ETFs, while Communication Services has 34 ETFs. In other words, tech has more leveraged ETFs than the next 3 sectors COMBINED.

While not as easy to quantify as margin debt or sports betting, this aggressive speculative behavior is showing up in passive securities. It is most visible, for instance, in the fierce rotations between sector and factor ETFs.

In this article, we explore how the speculative environment and aggressive trading in passive ETFs are playing out. We also examine how to identify and capitalize on sector and factor rotations, turning passive investors’ aggressive behavior into an opportunity.

In 1952, Harry Markowitz and his Modern Portfolio Theory laid the groundwork for passive strategies. His thesis is that diversification across a broad market portfolio maximizes returns for a given level of risk. He argued for what has since been termed indexing.

John Bogle is known as the “father of indexing.” In 1976, he launched the First Index Investment Trust at Vanguard. His fund, tracking the S&P 500, was the first index mutual fund available to retail investors. The fund was mocked by competitors as “Bogle’s Folly.” Today, Vanguard manages over $12 trillion in assets, a testament to the power of Bogle’s low-cost, buy-and-hold passive investing philosophy.Ironically, Bogle warned that ETFs’ intraday liquidity would tempt investors into the active trading behavior he had spent his career arguing against.

In 1993, the SPDR S&P 500 Trust (SPY) became the first ETF available to US investors, enabling intraday trading in passive indexing securities.

Passive investment strategies and associated securities were designed to bring discipline and longer-term strategic thinking to investors.Instead of actively buying and selling individual stocks to beat the market, passive strategies are comfortable matching market returns.

Source: ZeroHedge News